Directors’ duties under section 172 Companies Act 2006

The Supreme Court (“SC”) has recently delivered an important judgment on the scope of directors’ duties under s.172(1) of the Companies Act 2006 (“CA06”). This judgment considered whether a director who genuinely believed that his chosen strategy would best promote the success of the company can act unilaterally, even where such action conflicts with the views of fellow directors and agreed corporate governance arrangements.

s.172(1) CA06 sets out a director’s duty to promote the success of the company and provides that “a director of a company must act in the way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole […]”.

The SC’s decision is significant for directors, shareholders and those involved in corporate governance as it provides important guidance on the extent of a director’s fiduciary duty of loyalty, the meaning of acting in “good faith”, and the courts’ reluctance to interfere with business judgment. The case is also particularly relevant to private companies and investment-backed business where a shareholders’ agreement establishes an agreed-upon exit strategy.

Background to Saxon Woods v Costa

Mr Francesco Costa was the chairman and a director of Spring Media Investments Limited, a company operating in the fashion, beauty and luxury brand sectors (the “Company”). In accordance with the terms of the Company’s shareholders’ agreement entered into in 2016, the shareholders of the Company agreed to work towards an “Exit” event, namely the sale of (i) the issued equity share capital of the Company, or (ii) the business and assets of the Company, by the end of 2019.

Mr Costa was delegated the responsibility for conducting the Exit process and he came to believe that a sale later than the end of 2019 would yield a better financial return for the Company and its shareholders. Acting on that belief, Mr Costa pursued a strategy of postponing the sale, which involved withholding information, misleading the board and using delaying tactics that prevented the agreed Exit strategy from being implemented.

Mr Costa succeeded in preventing an Exit before the end of 2019. Unfortunately for Mr Costa, the Covid-19 pandemic subsequently devastated the Company’s prospects of a profitable Exit, and minority shareholder, Saxon Woods Investments Limited (“Saxon Woods”), brought an unfair prejudice petition under s.994–996 CA06, alleging that Mr Costa’s actions had unfairly prejudiced the shareholders of the Company by preventing the agreed Exit strategy from being achieved in accordance with the exit provisions in the shareholders’ agreement.

The Supreme Court’s decision

The duty under s.172 CA06 is understood to include a fiduciary duty of loyalty, and the test to determine whether that duty has been breached had been described as subjective, as recognised in Re Smith and Fawcett Ltd. The SC considered Re Smith and Fawcett Ltd and Lord Briggs, delivering the judgment, reaffirmed the long-established principle from Re Smith and Fawcett Ltd that courts will not interfere with directors’ business judgements if directors act in good faith in what they consider to be in the best interests of the company. However, the SC made it clear that this principle has limits, and still involves at least some objective element.

It was held that, although s.172 CA06 does not explicitly prohibit the subversion of the management of a company’s affairs, the duty of good faith therein governs how a director behaves, not merely what that director believes. A director will be found to have breached the fiduciary duty of loyalty owed to the company if such director secretly pursues a strategy contrary to that adopted by the board, while concealing such actions from fellow directors. Lord Briggs found that Mr Costa’s conduct was manifestly disloyal to the Company, and that he had acted in bad faith towards the Company.

The SC ruled that the fiduciary duty of loyalty applied in this case, rather than the objective dishonesty test from Ivey v Genting Casinos, on which the Court of Appeal had relied. The SC emphasised that individual directors cannot ignore established board governance based on personal belief and “go it alone” (Lord Briggs, para 2). Where a director disagrees with the board’s approach, the proper course is to persuade fellow directors through the company’s governance processes rather than to undermine those processes covertly.

The SC upheld the trial judge’s and the Court of Appeal’s finding that unfair prejudicial behaviour was established (but for different reasons to those used in the lower courts) and Mr Costa was ordered to purchase Saxon Woods’ shares at their pro rata undiscounted value as at 31 December 2019.

Why the decision matters

1. The importance of collective board governance

The judgment confirms that company management is a collective exercise. While directors are expected to exercise independent judgment (s.173 of CA06), that obligation does not permit them to act outside the board structure established by the company’s constitution. The SC recognised that governance frameworks exist to ensure accountability, transparency and collective responsibility. A director cannot simply “go it alone” because they believe they know better.

2. Clarification of section 172 CA06

The decision also provides guidance on the scope of s.172 of CA06.

Historically, directors have often taken comfort from the subjective nature of the duty to promote the success of the company. The SC has now clarified that the protection afforded by the business judgment rule does not extend to conduct that undermines the company’s governance arrangements. Good faith belief and good faith conduct are both required.

3. Practical lessons for directors

As practical takeaways from the decision, board directors should:

• ensure major strategic decisions are properly documented through board minutes and resolutions;
• clearly define the scope of delegated authority when responsibility for transactions or strategic initiatives is entrusted to individual directors;
• encourage transparent discussion and challenge within the boardroom;
• record dissenting views appropriately rather than allowing disagreements to be pursued informally; and
• review shareholders’ agreements and governance frameworks to ensure strategic objectives are clearly articulated and enforceable.

Key takeaways on directors’ duties and corporate governance

Saxon Woods Investments Limited v Costa is a landmark decision that reinforces a fundamental principle of corporate governance. Directors must not only believe they are acting in the company’s best interests, they must also act in a manner consistent with their fiduciary obligations and the collective decision-making structures of the company.

The Supreme Court has sent a clear message that loyalty, transparency and proper governance remain central to the role of a director. The case is a timely reminder that good intentions cannot justify conduct that undermines corporate governance.